Working With the Right Surety Agent to Build Your Bonding Capacity: Episode 1

Brian Whipple:

Thanks so much for having me today. As you mentioned in the intro, I'm the National Surety Practice Leader for Risk Strategies company, which is an independently held brokerage based out of Boston, Massachusetts, with offices across the country and across all of North America. We are a quickly growing brokerage and already in the top 10 from a size perspective in the country.

I started in the surety business about 28 years ago as a high school kid working in my dad's surety agency here in Baltimore. So I came into the industry very honestly, and I would say that my main role as a surety broker is to help maximize the surety credit that our clients have available to them while balancing the risk that the additional growth they take on can create.

Don Hoffman:

So Brian, we all know that the lifeblood of many construction companies is bonding, and we know without bonding that it really impairs their ability to grow, especially in regard to larger projects. So could you share, Brian, a little bit about what it is you do and your company does to help owners of construction companies manage bonding as their companies are growing with these large projects?

Brian Whipple:

Sure. And I think a little history about what bonding is here at the outset might help a little bit. I was a history major in college, so I always like to tell the story of surety. When the Miller Act was passed by the federal government in 1935, they required payment and performance bonds on all federal projects over $100,000. That was later amended to $150,000 by the FAR Act. But those payment and performance bonds really guarantee two things. They guarantee the payment of subs, second tier subs and suppliers, and they guarantee performance under the contract.

I always tell my clients that surety bonds are underwritten by insurance companies, but surety bonds really are not insurance. It's important to note that because surety is a three-party relationship, surety functions much more like a banking relationship would than an insurance relationship does in so far as the risk is transferred through a surety bond to a surety company. However, that surety company has an indemnity agreement in place with the client that essentially says, if a claim is paid, you're going to pay us back.

I think as we go through the process of helping contractors grow their surety programs, look at the things they need to do to get larger projects and have a larger program in general, it typically comes down to a teamwork approach between their surety and themselves. And what that usually looks like is something like a crawl, walk, run type relationship: you're going to start with smaller bonds, and as your balance sheet and experience grow, your bonding capacity grows.

If you want to continue to grow your business, there's typically a next logical step in your growth. The next logical step is often a job one and a half to two times the size of your largest completed contract, which is usually where the surety industry can get comfortable. You typically need to have your balance sheet growing in a way that your working capital and net worth can support that growth.

Not only is the surety going to look for that, but realistically it's something that as a contractor, you should want to have in order to make sure that all the hard work that's gone into growing your company is protected if there is a hiccup on a job.

Don Hoffman:

It is interesting that bonding, based on your explanation, is very different from typical insurance. You may have a $5 million line of credit at the bank, but if the surety is bonding $50 million of work, they effectively are at risk for $50 million. And the understanding is that if you don't pay your subcontractors or pay your suppliers, the bonding company must step in and pay them, correct?

Brian Whipple:

That's absolutely right. The rights under a surety bond flow uphill to the owner and the GC. Most contractors are very familiar with that: when they're posting a bond, they're guaranteeing the completion of the contract to the owner. What a lot of folks don't understand, especially when they first get into the surety bond world, is that surety bonds also guarantee the payment of subcontractors, second tier subcontractors, and suppliers.

If a loss occurs either through a payment claim or through a performance claim, the surety is going to pay that claim based upon the contract they have in place, which is the surety bond. And then of course, they're going to come back to the contractor and say, "We had to pay a claim on your behalf, pay us back." So it's certainly a relationship that calls on mutual trust between the surety and the contractor in so far as if the surety pays a claim, the contractor's paying a claim as well.

Don Hoffman:

I know that you work really hard with your clients in regard to the most sensitive issue when these bonds are written, which have to do with homestead exclusions, and ultimately if they build up enough liquidity and net worth to start either eliminating personal guarantees as the company has left more assets in the company, which gives the bonding company a level of comfort and security. And I know you were always the advocate, so maybe I think if you could touch on the things that companies need to do to achieve those goals.

And as you're doing that, if you could just indicate: When someone's looking for a bonding company, a surety agent like yourself, what kind of questions should they ask? What should they be looking for?

Brian Whipple:

Good question. So I think in most business relationships, contractors generally want to work with someone that they like and that they trust. Good surety agents are usually those that are focused on the industry full-time and have experience with a variety of contractors. Even within the surety industry, there are specialists, some agents that maybe are excellent at smaller growth and emerging contractors, there's some agents that are really good on much larger contractors. And then there are practices like our own at Risk Strategies where we specialize in all of the above. We work with contractors of all sizes, from startups to multi-billion dollar construction companies.

I think that through the evolution and the growth of a surety program, you're going to see the indemnity agreements change over time. To your point, you're going to move from full personal indemnity often to some sort of limited personal indemnity, and then hopefully over time with the strength of the financial statements supporting it, you're going to move to indemnity of just the corporation with no need for personal indemnity at all.

Don Hoffman:

And that's very important. And as we've discussed in the past, I know one of the first goals you have is to get a homestead exclusion. So if something went really bad with the contract that they couldn't take the owner of the construction company's home, which is a very important thing to most people.

Brian, I want to thank you so much for your time today. The next episode is going to be very interesting where Brian Whipple will be back to discuss the importance of using a treasury-listed surety and why construction firms may need to switch sureties as they take on larger projects and offer advice on overcoming obstacles in obtaining larger bonds for their businesses. I look forward to seeing you at our next podcast.